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Monday, October 24, 2011

The Godfather Speaks

The Godfather of nominal GDP targeting has spoken. Bennett McCallum, who has authored numerous academic papers on nominal GDP target and is probably the foremost expert on it, weighs in on the growing attention being given to this approach to monetary policy. An important point that he makes is that a nominal GDP target would be easier to understand by the public than an inflation target:

It seems ironic then that, when academic economists suggested nominal income targeting to Federal Reserve officials in the 1980s, often the main objection put forth was that it would be difficult for the public to understand. But it seems likely that it would be easier for the public to understand nominal GDP growth than a target that includes an unspecified weighted average of an inflation rate and some unreported major adjustment to take account of output and/or unemployment conditions. Indeed, I would argue that “total spending” in the economy is a way of describing nominal GDP that would make that concept at least as easy to understand by average citizens as “core inflation” or even CPI inflation.

I have always believed that marketing a nominal GDP target would be fairly easy for the reasons laid out above. Another way of framing this for the public is to say that the objective of such an approach to monetary policy would be to stabilize nominal income or wage growth (though technically that would require a nominal GDP per capita target). The public understands their current dollar wages far better than the various CPI measures. Thus, selling a NGDP target as a way to stabilize wage growth should have broad appeal. And then there are good macroeconomic reasons to stabilizing nominal wage growth, but that is a topic for another post.

The self-delusion of the advocates of NGDP targeting knows no bounds! While the concept of a price level can be difficult to explain, I think most people can easily understand that the issuer of the currency should aim to supply an amount that leaves prices and the real value of that currency stable. The influence of monetary policy on real variables such as employment can be explained through their role in the transmission mechanism, but you don't have to push this explanation very far before it becomes apparent that the impact of monetary policy on such real variables is temporary, and that there is therefore something suspicious about targeting them.

And good luck explaining why you are tightening monetary policy to "stabilise" wage growth!

Benjamin, can we get over this silly idea that there is something moralistic or even sadistic about hard money. I lived through the inflationary 1970s in the UK and saw how futile it was, while Germany, although it could not maintain price stability, at least resisted inflation and emerged much stronger economically than the UK as a result. Hard money works, because it provides a reliable foundation for economic activity that promotes structural reform. That is why I personally dislike inflation, and why I became a central banker. Sadly, however, you won't find many central bankers with such zeal nowadays. Most of them are just amoral calculating machines turned out by graduate programmes.